Stocks were down from their high this week, interest rates moved sharply higher, but are still lower than the inflation rate. Minutes of the last Fed meeting show some members want to reduce the Fed’s balance sheet sooner rather than later.
The Week That Was
December employment report show a strong gain of 211,000 private sector jobs at year end. Total hours worked were up at a 4 percent annual rate. Average weekly earnings up at an 8 percent annual rate. The numbers are consistent with other reports showing the economy growing at roughly a 4 percent – 5 percent real rate going into the new year.
The January ISM surveys for manufacturing and service companies point to strong business activity at the close of 2021. Both indexes registered overall activity in the vicinity of 60, well above the break-even level of 50. New orders were also in the vicinity of 60. While still a problem, supply constraints appear to have eased slightly. Demand and price pressures remain strong. Both indexes are consistent with historical real GDP growth of about 4½ percent annual rate.
December initial weekly unemployment claims averaged 200,000, down from 235,000 in November. The number receiving unemployment payments also is trending lower with 1.8 million receiving benefits in December, down from 2.1 million in November.
Things to Come
Next week’s economic news includes inflation numbers and retail sales. December consumer prices are due Wednesday and producer prices on Friday. There was big drop in oil prices in December, which has since been reversed. In spite of the reversal, the December inflation numbers should be somewhat lower than in previous months. The inflation slowdown will be temporary.
On Friday, December retail sales are due. Retail sales data are highly erratic. November sales were 22 percent above their pre-Covid peak, while incomes were close to 10 percent above their pre-Covid peak. A decline in sales can occur at any time, bringing the sales numbers more in line with incomes. So far, this hasn’t happened. Don’t be surprised if it occurs. Any reported weakness in retail sales is more likely to be an example of bad data as opposed to a significant economic development.
Market Forces
Stocks were mostly lower this past week. A fickle market recently sent the Nasdaq, S&P500 and Dow to record highs, before taking it back. The Nasdaq, which soared the most, is down 6 percent from its peak. The S&P500 and Dow are 2 percent below their peaks.
The Fed Minutes this past Wednesday caused a stir when they are usually a non-event. Fed Chairman Powell indicated the Fed intended to move with moderation. However, the Minutes said some members favored reducing the Fed’s balance sheet soon. Going from buying more securities between now and March and then selling them gave the Fed an appearance of moving erratically.
In response to the Fed’s miscommunication, financial markets shifted to anticipating a hike in interest rates at the March meeting instead of May.
Interest rates moved sharply higher. Even so, they remain well below inflation and well below fundamental levels based on economic conditions. Although technical indicators for interest rates are all pointing to further increases, often there is a leveling off after such sharp moves.
As for stocks, the sharp drop in the Nasdaq has sent the index well below key support level at its 50-day average. The only positive technical indication for the Nasdaq is that it has so far held above its December 2021 lows.
The S&P500 and Dow have held above key support levels. At this point, the recent decline in stocks appears to be an overreaction to the Fed’s miscommunication. Although stocks will go wherever volatile sentiment takes them, the ongoing monetary stimulus should limit the current weakness and soon send stocks higher.
Outlook
Economic Fundamentals: neutral
Stock Valuation: S&P 500 overvalued by 38 percent
Monetary Policy: expansive
